What is Social Security, and How Does it Work?

Social Security: the insurance plan controlled by the government that is designed to help retirees, those who are disabled long-term, and families of deceased individuals. This program was originally created in the 1930s as insurance against hardship in response to the Great Depression, but it has since grown to become a major portion of most people’s retirement plans.

While you’ve probably heard of your parents and grandparents using Social Security as a means to fund their retirement, if you’re nowhere near your 60s, you shouldn’t count on getting much, if anything, from it. You’re likely already paying about 6.2% of your income towards the program, too, which makes that sting quite a bit more. Sucks, huh?

Since most young people haven’t had to even consider how Social Security will affect them through their lives, they probably haven’t taken the time to research the topic. So, first, let’s look at how the program actually works.

How Does Social Security Work?

As you’ve probably noticed, every paycheck you earn gets a pretty decent chunk taken out in Social Security taxes. In 2016, the rate stands at 6.2%. While that may not seem huge, if you earn the same salary through a 40 year career, you’ll have paid just under 2 and a half years of earnings to Social Security alone. If you’re 22 now, that means that the next 2 and a half years of pay would be going entirely to Social Security.

The Social Security Administration (SSA) will essentially take these taxes and then use it to cut checks to those who are eligible to receive them. For retirement benefits, eligibility is somewhat decided by policies, but somewhat decided by you. Individuals who receive retirement benefits can be no younger than 62. However, if you retire at 62, you’ll received reduced benefits. Electing to begin receiving benefits right at 62 means that your future benefits will also be reduced by the same amount for as long as you live. This is why you may have heard people say they’re waiting to collect benefits.

Past policy changes set the “full” retirement age at 67 for anybody born after 1960. This means that as of right now, if you want to receive 100% of your benefits, you’ll need to wait until your 67th birthday. You don’t actually need to work until you turn 67 (or any other age) to receive this amount, you just need to delay claiming them until you reach that age.

Following the trend, if you wait to collect benefits even after you turn 67, the amount you can receive continues to rise. The benefits max out at 70, though, so delaying beyond that point is pointless. But, if you think you’re going to have a long life in retirement, it may be wise to wait until 70 because the benefits increase 8% each year after you turn 67. This means you’ll get 124% of “full” retirement benefits (https://www.ssa.gov/planners/retire/1960-delay.html) for the rest of your life.

Giving examples of these scenarios is tough because the benefits are indexed to inflation. This means that the amount prices rise each year affects how much benefits rise each year. The Social Security Administration’s goal with this practice is to allow beneficiaries to maintain the same standard of living. This means that your great-grandma can still afford the same amount on groceries as she did in 1986 when she retired. Gas went from $0.90 a gallon to $3 a gallon, so obviously she’ll need more money to pay for it.

I’ll bet you’re wondering how much these benefits will actually be. Unfortunately, I don’t have a good way to explain it. The further away from retirement you are, the harder it is to predict because it’s mostly based on your pre-retirement income. However, if you’re interested and would like to play around with some numbers to see how it might turn out, the SSA has a calculator (https://www.ssa.gov/OACT/quickcalc/index.html) that can help give you some type of idea.

Why Should You Care?

After all, you’re young and several decades away from your 60s. All you can do now is pay your taxes and worry about retiring later, right? It’s not like you don’t have time, and since everyone else isn’t worrying, why should you? Your grandparents get Social Security, your parents get/will get Social Security, so it’s easy to assume you’ll get it, too. Unfortunately, it’s not that simple.

In 2015, $888 billion went to Social Security, which was 24% of the total U.S. government’s budget. That’s a huge amount, and as baby boomers keep entering the retirement stage of their lives, it will continue to grow. Thanks grandma and grandpa!

Because of this large amount of people switching from paying taxes to receiving tax money, the Social Security Administration predicts that benefits will begin getting cut by 2035. Although there is no definitive information on how much benefits will be cut, or an exact date of when, if you’re a millennial, it’s probably best if you rely on your own saving and investing and consider anything you end up receiving as a bonus.

If, although fairly unlikely, the SSA were to cut future retirement benefits altogether, you will have been stuck paying taxes for something you’ll never benefit from. Scary thought, but anything is possible.

Not trying to be a Debbie Downer here, but it’s important to recognize that most of us will be more on our own than generations before us. Take advantage of your 401(k), increase your savings, and start investing. The earlier you start, the safer and better off you’ll be when it comes time to retire.

Don’t leave your financial future up to politicians.

What direction do you think Social Security has headed? Is it a major factor in your retirement plans? Leave a comment below and share your thoughts!